Political Credit Cycles: The Case of the Eurozone

Abstract

We study the mechanisms through which the entry into the euro delayed, rather than advanced,
key economic reforms in the eurozone periphery and led to the deterioration of important
institutions in these countries. We show that the abandonment of the reform process and the
institutional deterioration, in turn, not only reduced their growth prospects but also fed back into
financial conditions, prolonging the credit boom and delaying the response to the bubble when
the speculative nature of the cycle was already evident. We analyze empirically the interrelation
between the financial boom and the reform process in Greece, Spain, Ireland, and Portugal and,
by way of contrast, in Germany, a country that did experience a reform process after the creation
of the euro.